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Joe Six-Packīs Guide to the Ongoing Financial Crisis, Part III:
What Bear Stearns tried to say before it got whacked
In March of 2008 a venerable 85-year-old investment bank suddenly realized that it had become a pariah on Wall Street. The Securities and Exchange Commission (SEC) insisted that Bear Stearns was "well-capitalized", but other banks refused it credit and turned away from any deal to which it was a party.
Only a year previous Bearīs stock had traded at $172 a share, and in February of 2008 it sold for $93. Then a financial bout of "March Madness" sent the stock into free fall.
Just when bankruptcy seemed the only option left, the Federal Reserve arranged a merger agreement with JP Morgan Chase in a stock swap worth a whopping $2 a share! This sale price represented a staggering loss for Bearīs stockholders and employees.
Yes, JPMorgan acquired Bear Stearns for a song, but the Federal Reserve further sweetened the deal by loaning $30 billion of taxpayer money to JPMorgan. Why? The Fed simply did not want Bear Stearnsī assets to be evaluated in bankruptcy court.
If the merger was a "shotgun marriage", it was the first time the "bride" was dismembered immediately following the ceremony! JPMorgan acquired some $360 billion of Bear Stearns assets and liabilities, and the Fed took possession of $30 billion worth of mortgage-backed securities as collateral for the loan.
That totals up to be $390 billion, which certainly should have kept Bear out of the poor house. But wait, there's something rotten hidden under the floorboards! A March 23rd New York Times article, "What Created This Monster?" said: "Bear Stearns held credit default swap contracts carrying an outstanding value of $2.5 trillion." Wow!
It defies logic that Bear Stearns could go under while holding capital assets worth $2.5 trillion, but it did. Why weren't those enormous assets sold by Bear or divided between JPMorgan and the Federal Reserve? Instead, they weren't even mentioned! Where did they go? Did they even exist?
Yes, according to a Fortune Magazine article, "Bear Stearnsī No. 1 foe: Fear itself", (3/16/08) which said: "The Fedīs role in the deal suggests federal officials fear a systemic collapse of the U.S. financial system were Bear Stearns to fail. The fear stems from Bearīs central role in a multi-trillion-dollar web of interconnecting derivative contracts." We are talking trillions after all.
Someone who might be able to clarify things is Oppenheimer Bank analyst Meredith Whitney, who's been called "Wall Streetīs Grim Prophet" for the accuracy of her insights. She said: "If Bear went under, everyoneīs solvency was going to be thrown into question. There could have been a systematic run on counterparties (other banks that were party to the contracts) in general. It was 100 percent related to credit default swaps." (NYT 3/23/08)
Also on target was Andrew Ross Sorkin. ("Leveraged Planet", NY Times 4/2/08) He wrote: "The extent of the interconnections between Bear Stearns and the global financial system, and the impact its collapse could have had, is indicated by reports that the bank held trading contracts with an outstanding value of $2.5 trillion with firms around the world. That is, contracts whose value was equivalent to around one sixth of the gross domestic product (GDP) of the United States and one twentieth of total global GDP were at risk."
The main problem with the $2.5 trillion in credit default swaps is that they no longer have a value that can be determined or agreed upon! That's because they are unregulated financial products traded in unregulated markets.
If no meaningful market price for an asset can be found, banks use in-house mathematical models to value them, calling them "Level" assets. The SEC allows banks to hold securities "for which there is no ready market" as capital. That's fiscal folderol.
Bear Stearns held $2.5 trillion worth of complex financial contracts as capital, but it found out there was no longer a ready market for them in a crisis. No market - no value.
When the Federal Reserve and JPMorgan divided up Bear Stearnsī assets, the credit default swaps simply disappeared from the scene, and Congress forgot to ask about them when they held hearings on the matter. What would they have been worth in a fire sale? Would the price they fetched have affected Bank of Americaīs $1.5 trillion in swaps, Citigroupīs $3 trillion, and JP Morganīs $7.7 trillion?
No one wants to find out the real value of the $62 trillion "worth" of credit default swaps held by banks around the world, especially the banks themselves.
Recently, the chief economics writer for the Financial Times, Martin Wolf, spoke about the ongoing financial crisis:
"For three decades now we have been promoting the joys of a liberalized financial system and what has it brought us? One massive financial crisis after the other But the crisis of 2007-2008 was far and away the most significant of all the crises of the last three decades.
What makes this crisis so significant? It tests the most evolved financial system we have. It emanates from the core of the worldīs most advanced financial system and from transactions entered into by the most sophisticated financial institutions, which use the cleverest tools of securitization and rely on the most sophisticated risk management. Even so, the financial system blew up."
Wolf, the author of Financial Globalization, Growth and Asset Prices, finished his speech by saying: "I no longer know what I used to think I knew. But I also do not know what I think now."
That's a pretty startling statement, considering the source, but we'll give Ben Stein the last word. In his April 27, 2008 column for the NYTimes, "Wall Street, Run Amok", he wrote: "It looks to me as if the inmates are running the asylum. One truth, that deregulation is sometimes a good thing, has been followed down so long and winding a road that it has led to an immense lie: that deregulation carried to an extreme will not lead to calamity. To think that people of this mind-set are in charge of the finances of the nation that is the cornerstone of world freedom is terrifying."
What Bear Stearns tried to say before it got whacked
In March of 2008 a venerable 85-year-old investment bank suddenly realized that it had become a pariah on Wall Street. The Securities and Exchange Commission (SEC) insisted that Bear Stearns was "well-capitalized", but other banks refused it credit and turned away from any deal to which it was a party.
Only a year previous Bearīs stock had traded at $172 a share, and in February of 2008 it sold for $93. Then a financial bout of "March Madness" sent the stock into free fall.
Just when bankruptcy seemed the only option left, the Federal Reserve arranged a merger agreement with JP Morgan Chase in a stock swap worth a whopping $2 a share! This sale price represented a staggering loss for Bearīs stockholders and employees.
Yes, JPMorgan acquired Bear Stearns for a song, but the Federal Reserve further sweetened the deal by loaning $30 billion of taxpayer money to JPMorgan. Why? The Fed simply did not want Bear Stearnsī assets to be evaluated in bankruptcy court.
If the merger was a "shotgun marriage", it was the first time the "bride" was dismembered immediately following the ceremony! JPMorgan acquired some $360 billion of Bear Stearns assets and liabilities, and the Fed took possession of $30 billion worth of mortgage-backed securities as collateral for the loan.
That totals up to be $390 billion, which certainly should have kept Bear out of the poor house. But wait, there's something rotten hidden under the floorboards! A March 23rd New York Times article, "What Created This Monster?" said: "Bear Stearns held credit default swap contracts carrying an outstanding value of $2.5 trillion." Wow!
It defies logic that Bear Stearns could go under while holding capital assets worth $2.5 trillion, but it did. Why weren't those enormous assets sold by Bear or divided between JPMorgan and the Federal Reserve? Instead, they weren't even mentioned! Where did they go? Did they even exist?
Yes, according to a Fortune Magazine article, "Bear Stearnsī No. 1 foe: Fear itself", (3/16/08) which said: "The Fedīs role in the deal suggests federal officials fear a systemic collapse of the U.S. financial system were Bear Stearns to fail. The fear stems from Bearīs central role in a multi-trillion-dollar web of interconnecting derivative contracts." We are talking trillions after all.
Someone who might be able to clarify things is Oppenheimer Bank analyst Meredith Whitney, who's been called "Wall Streetīs Grim Prophet" for the accuracy of her insights. She said: "If Bear went under, everyoneīs solvency was going to be thrown into question. There could have been a systematic run on counterparties (other banks that were party to the contracts) in general. It was 100 percent related to credit default swaps." (NYT 3/23/08)
Also on target was Andrew Ross Sorkin. ("Leveraged Planet", NY Times 4/2/08) He wrote: "The extent of the interconnections between Bear Stearns and the global financial system, and the impact its collapse could have had, is indicated by reports that the bank held trading contracts with an outstanding value of $2.5 trillion with firms around the world. That is, contracts whose value was equivalent to around one sixth of the gross domestic product (GDP) of the United States and one twentieth of total global GDP were at risk."
The main problem with the $2.5 trillion in credit default swaps is that they no longer have a value that can be determined or agreed upon! That's because they are unregulated financial products traded in unregulated markets.
If no meaningful market price for an asset can be found, banks use in-house mathematical models to value them, calling them "Level" assets. The SEC allows banks to hold securities "for which there is no ready market" as capital. That's fiscal folderol.
Bear Stearns held $2.5 trillion worth of complex financial contracts as capital, but it found out there was no longer a ready market for them in a crisis. No market - no value.
When the Federal Reserve and JPMorgan divided up Bear Stearnsī assets, the credit default swaps simply disappeared from the scene, and Congress forgot to ask about them when they held hearings on the matter. What would they have been worth in a fire sale? Would the price they fetched have affected Bank of Americaīs $1.5 trillion in swaps, Citigroupīs $3 trillion, and JP Morganīs $7.7 trillion?
No one wants to find out the real value of the $62 trillion "worth" of credit default swaps held by banks around the world, especially the banks themselves.
Recently, the chief economics writer for the Financial Times, Martin Wolf, spoke about the ongoing financial crisis:
"For three decades now we have been promoting the joys of a liberalized financial system and what has it brought us? One massive financial crisis after the other But the crisis of 2007-2008 was far and away the most significant of all the crises of the last three decades.
What makes this crisis so significant? It tests the most evolved financial system we have. It emanates from the core of the worldīs most advanced financial system and from transactions entered into by the most sophisticated financial institutions, which use the cleverest tools of securitization and rely on the most sophisticated risk management. Even so, the financial system blew up."
Wolf, the author of Financial Globalization, Growth and Asset Prices, finished his speech by saying: "I no longer know what I used to think I knew. But I also do not know what I think now."
That's a pretty startling statement, considering the source, but we'll give Ben Stein the last word. In his April 27, 2008 column for the NYTimes, "Wall Street, Run Amok", he wrote: "It looks to me as if the inmates are running the asylum. One truth, that deregulation is sometimes a good thing, has been followed down so long and winding a road that it has led to an immense lie: that deregulation carried to an extreme will not lead to calamity. To think that people of this mind-set are in charge of the finances of the nation that is the cornerstone of world freedom is terrifying."
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